The big news of the week was the results of the British referendum, in which 52 per cent voted to exit the European Union while 48 per cent opted to remain in it. If Jane Austen were here, she would have described it as a triumph of pride and prejudice over sense and sensibility.

An interesting analysis of the vote was that those under 49 years of age voted to stay but those over 50 opted to exit. The older generation has the least amount of time left to live with the decision. It is the younger generation who will be denied, post Brexit, the opportunity to travel and seek job opportunities within Europe.

Brexit will have far deeper repercussions than anticipated. The idea of a common market in Europe is coming unstuck; countries such as the Netherlands, Sweden and maybe even France are also contemplating a referendum to exit. Contrariwise, Scotland, and perhaps Northern Ireland, are thinking of quitting the UK and joining the EU.

Big risk from Russia A weakened Europe may not be a strong enough bulwark against an aggressive, nuclear armed Russia, whose pride has been wounded enough to contemplate a misadventure. This is a big risk.

Great Britain itself will face tough times. From a time when the sun never set on the British Empire, it was in slow decline with two things propping it up, viz. North Sea Oil (which has now vanished) and the primacy of London as an international financial centre (which is now in danger). Many of the European banks are present in London, and companies go to London to raise capital because it has always been a global financial centre and it has strong laws.

But if, after Brexit, the freedom to travel is curtailed, banks may move to another centre, say Frankfurt, and take with them up to one lakh high-paying jobs. Markets have already recognised this, both the pound sterling and property prices are falling and experts say the GBP can decline to parity with the dollar. It is 1.34 now.

Lending worry In fact, financial sector assets in Britain are a whopping eight times its GDP and more than 50 per cent of its cross-border lending is directed to Europe. Nearly half its FDI comes from Europe. This can get seriously eroded.

The divorce process will take at least two years, thus generating prolonged uncertainty, anathema to markets. The divorce is expected to be messy and would become messier still if the Netherlands, Sweden and others desire to break away.

This is why investors are running for safety. They consider safety to be the dollar and sovereign bonds. Both asset classes have risen. In fact sovereign bonds, especially Japanese bonds, have risen to an absurd level, so that now there is a whopping $11.7 trillion worth of bonds trading at negative yields. This is about a quarter of all sovereign bonds.

This, in turn, means that pension funds who invest retirement money in sovereign bonds need to look for riskier assets to give a higher return in order to meet the obligations they have promised. Stock markets have steadied after the initial shock. But the consequences of Brexit will be long drawn out. And a debt bubble is waiting to implode. Investors should consider investing a part of their savings into gold. A flight to safety from the dollar can only be to that.

Tough times ahead.

The writer is India Head, EuroMoney Conferences

Related Topics